Banks and corporate treasurers are gearing up for a host of regulatory changes next year that will increase the cost of derivatives and the complexity of pricing them.

Whether these prices are passed on is going to depend more on the creditworthiness of the company than in the past. However, banks will be looking to offer discounts to increase the amount of business they get with any one company.

As for corporate treasurers, they will need to understand the overall risk of a bank to extract better deals.

Regulatory changes, including the new Basel III capital accord and the OTC (over-the counter) reforms being introduced by G20 countries, will require banks to hold more capital against derivatives depending on the risk of default by their counterparties and themselves.

“Credit on derivatives was a big issue during the [financial crisis] – effectively people were not pricing credit into their derivatives," explains Deloitte partner in treasury and capital markets Hussein Hussein.

He estimates prices for interest rate swaps will rise by around 5 to 15 basis points (or 0.05 to 0.15 per cent) per annum and for cross currency swaps by 10 to 30 basis points (0.1 to 0.3 per cent) per annum.

Basel III and International Financial Reporting Standard 13 coming into effect in January requires so-called credit default adjustments and debit default adjustments, or the risk of default of counterparties to derivatives and to the bank itself.

Companies will need to decide whether the rise in costs will be high enough to voluntarily collateralise, or settle, hedges with banks on a regular basis, thereby reducing the bank’s risk and the price rise. The dilemma is that this reduces liquidity and cash flow certainty for the company.

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But the change also creates opportunities for the banks on pricing and may reverse the trend to diversify banking relationships.

“A business that can offer a bank a large amount of ancillary business should not incur as high a credit charge as one that doesn’t," says Geoff McMurray, general manager, treasury, at fertiliser and explosives manufacturer Incitec Pivot. “This may lead to corporates consolidating banking relationships."

Many companies will choose to wear the cost instead of collateralising due to the uncertainty it creates over future cash flows. “The biggest issue for corporates is liquidity," says Hussein. “They don’t want to be settling these things on a daily basis and then find themselves out of the money then having to cash out with the bank."

McMurray would be “very reluctant" to post collateral to support his company’s derivative trading.

Paul Travers, president of the Finance and Treasury Association, says it will mostly be an issue for smaller companies as larger ones have a greater ability to settle hedges. But doing so may make hedging in the first place pointless.

“There’s the big treasuries that have the ability to post money to adjust fair values [market pricing] on swaps," he says. “Smaller corporations don’t have that ability to post collateral. They are doing hedging to postpone the changes in [for instance] currency impact to a later time. Having to provide cash to reset the value of the derivative is counterproductive."

Regulators including the Australian Securities and Investments Commission will decide in the New Year the exact form of the OTC rules. Travers is hoping companies other than financial institutions will be exempt, as has occurred in the US and Europe.

But the other banking and accounting changes will still require the recognition of credit risk in the price of derivatives. “There is going to be a valuation issues but there are also going to a much wider economic issues," says Hussein. “We are already talking to corporations about whether there should be some kind of credit enhancements in their derivatives, or think about early termination clauses."

However, McMurray says the changes may cause more companies to use options.

The hedge accounting changes in IFRS 9 will make it more attractive to use options due to the ability to record changes in their time value in a reserve account rather than the profit and loss statement. Options will also carry a lower credit charge, says McMurray, “especially when compared to longer dated interest rate instruments or cross currency swaps".

He says companies will also need to be aware of their banks’ overall exposures as they may get a better deal from a bank that needs to rebalance its risks. “It may become important for corporates to try to determine a particular bank’s natural position in order to know which piece of business is suited to which particular bank."